The end of the financial year is a good time to learn more about dividends. This is an important aspect of a company's financial planning, but according to lawyers, businesses often forget a fundamental rule: dividends should only be paid when the company is stable and the interests of creditors are not affected. If a company has outstanding debts that should have been paid, the payment of dividends may be considered unlawful.
According to Domantas Velykis, Associate at AVOCAD, the Law on Joint Stock Companies provides that dividends are a share of profit allocated to a shareholder in proportion to the value of the shares owned by the shareholder. Simply put, dividends are a share of profit distributed to shareholders according to the number of shares they hold. Normally, companies allocate only a portion of their profits to dividends and invest the rest in business development, innovation or other needs.
The distribution of profits takes place after the end of the financial year, when the company's annual accounts are approved. The General Meeting of Shareholders decides on the payment of dividends and their amount. Although dividends are usually paid once a year, the law allows companies to distribute dividends more frequently - for example, every six months.
Only those persons who are shareholders of the company at the close of business on the day of the General Meeting of Shareholders or who are otherwise legally entitled to dividends are entitled to receive dividends. In the event of a subsequent acquisition of shares, the new shareholder is not entitled to past dividends but may be entitled to future payments.
When deciding on the payment of dividends, it is essential to comply with legal regulations. “If dividends are distributed in violation of the law, a shareholder may be required to return the amount received to the company,” notes Domantas Velykis. The Law on Joint-Stock Companies provides that if a shareholder knew or should have known that dividends were distributed unlawfully, the company has the right to recover the amounts paid from the shareholder.
According to AVOCAD's lawyer, there are three cases where a company cannot decide to pay dividends:
- If the company has outstanding liabilities that have already fallen due.
- If the company's distributable profit is negative, a loss has been incurred.
- If the company's equity is too low or would fall to a critical threshold after the payment of dividends.
The Supreme Court of Lithuania has stated that dividends should only be paid when the company is stable and such payments do not harm the interests of creditors. One of the indicators of the stability of an undertaking is its ability to pay its creditors. Therefore, if a company has outstanding debts which should have been paid, the payment of dividends may be considered unlawful.
However, case law recognises that if a company, after having declared a dividend, pays the outstanding debt before actually paying the dividend to the shareholders, the infringement is deemed to be eliminated. In such a case, the dividends paid to the shareholders would not be considered unlawful.
Another relevant situation, according to the lawyer, is if the company agrees with the creditor to postpone the payment of the debt by adopting new payment terms. Case law shows that in such cases the obligation is not considered to be in arrears and therefore the granting of dividends can be considered legitimate if the company complies with the new payment terms. In this way, the company can safeguard the interests of its shareholders without infringing the rights of its creditors.
Thus, the distribution of dividends is a delicate process that requires careful legal assessment. It is important for companies not only to comply with the law, but also to take a responsible view of their financial position and liabilities in order to avoid potential legal consequences.